In today’s Finshots, we dive into whether India should take another look at joining the Regional Comprehensive Economic Partnership (RCEP).

But before we dive in, here’s something that might catch your attention.

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With that out of the way, let’s get on to today’s story.

The Story

The World Bank’s recent report has reignited the conversation around India and the Regional Comprehensive Economic Partnership (RCEP).

The report explicitly suggests that joining the partnership could help India inch closer to its ambitious $1 trillion export target by 2030.

But before we go further, what exactly is RCEP?

Think of it as a massive club that makes trading and doing business easier.

That’s all it is ― a free trade agreement (FTA) between big players like Japan, China, South Korea, Australia, New Zealand and the 10 ASEAN (Association of Southeast Asian Nations) member countries.

Now, being part of this club could open up a whole new world of opportunities for India.

For starters, if India joined the RCEP, it would have had to gradually slash tariffs by about 90% on goods traded with other member nations over the next two decades, and they’d do the same in return. Lower tariffs would mean cheaper imports, which cuts costs for businesses that rely on goods and parts from abroad. And that translates to lower prices for consumers, too.

Beyond cost-saving, Indian businesses will also have access to a much larger market, as the RCEP nations comprise 30% of the global population. Furthermore, the FTA ensures that Indian businesses operating in different member countries won’t have to navigate complex cross-border trade regulations.

And given that RCEP member countries account for at least a quarter of all international trade, you could say that it’s a pretty big deal!

On the flip side, India would also have to open up its borders, letting in a wave of goods from other member countries. And that’s where the concerns start.

However, this is not the first time the offer has popped up.

Back in 2019, India was in the same boat. It had to decide whether to join the RCEP. And it chose to step back instead.

Fast-forward to today, and the debate is back in full swing ― Should India reconsider its decision?

And guess what? The World Bank thinks it should.

Its logic is simple. China has been shifting away from low-skill, labour-intensive manufacturing. Rising wages and a focus on high-value sectors have pushed them in a new direction. And the World Bank sees this as a perfect opportunity for India to step in and grab a bigger slice of the global manufacturing pie.

But there’s a warning too.

India’s exports have been moving toward capital-intensive goods like high-tech electronics, which are great for innovation but not so great for job creation. In contrast, labour-intensive industries like apparel, leather, textiles and footwear generate almost 40% of formal manufacturing jobs. And they’ve got the potential to create even more, which is exactly what India needs right now, given that urban unemployment is still hovering around 17%.

So yeah, the World Bank thinks we can significantly up our game in the manufacturing sector by tugging on the RCEP.

Moreover, by staying out of the RCEP, India might be missing out on a golden opportunity to get more deeply involved in global supply chains. Like one key advantage of RCEP is the way it handles something called the “Rules of Origin” and the “Cumulation Rule”.

Let’s explain.

Imagine a toy company in Malaysia. It wants to sell its toys across all the RCEP countries with lower tariffs (fewer taxes). To do that, the company needs to prove that enough (40% to be precise) of its toy parts are made within the RCEP countries. So, it buys plastic from Thailand, paint from Vietnam and electronic parts from South Korea — all of which are RCEP members. Thanks to the “Cumulation Rule”, the value of all these materials can be combined, making it easier for the toy to qualify for tax breaks when sold in other RCEP countries like Japan.

However, there’s a small hiccup. If the company uses motors from Germany, which isn’t in the RCEP group, the value of those motors doesn’t count toward the qualification. So, if the toys have too many German parts, they might not get the tax break, making them more expensive in the RCEP region.

So yes, joining the RCEP could offer myriad benefits.

Then, why did India walk away from RCEP in 2019, you ask?

See, India’s decision to withdraw from RCEP wasn’t made on a whim. It stemmed from a significant issue ― the agreement didn’t fully address some of India’s critical demands.

There were some other heavy concerns, too.

For one, China being a part of RCEP!

The agreement lacked a fair mechanism to tackle issues like the growing trade deficit and the opening up of services.

The RCEP deal aimed to slash import duties on 80% to 90% of goods and ease investment rules, which sounds great in theory. But in practice, these reductions would invite a deluge of imports, especially from China, worsening an already dire trade imbalance.

And here’s the kicker. The RCEP was supposed to benefit all its members equally. Yet, two years since it kicked off in 2022, evidence suggests that China has emerged as the biggest winner from the deal.

Take China’s trade with South Korea, for example. Before the RCEP, China had a big trade deficit with South Korea — meaning it was buying more from South Korea than it was selling to them. But after the deal kicked in, that deficit shrank quickly, signalling a big shift in trade dynamics.

And it’s not just South Korea. The same story played out with other RCEP nations like Japan, New Zealand and Australia. China’s trade deficits with ASEAN countries didn’t completely disappear, but they did shrink significantly after the RCEP took effect, showing just how much the agreement has worked in China’s favour.

So, if India had joined RCEP, chances are that its trade deficit could have worsened even further.

On top of that, the World Bank’s idea that India could swoop in and quickly take over low-skill manufacturing from China seems pretty much far-fetched.

A report by Fitch agrees, suggesting that shifting supply chains away from China will take time. And let’s face it. China’s got some serious advantages, like a highly skilled workforce, world-class infrastructure and a complete manufacturing ecosystem that other countries, including India, just can’t match anytime soon.

Another factor is that India already has Free Trade Agreements (FTAs) with 13 of the 15 RCEP members, leaving only New Zealand and China out. These existing agreements already give India preferential access to these markets, with reduced tariffs and better trade terms.

So yeah, India isn’t missing out on much in terms of trade benefits.

Still, should India rethink joining RCEP?

Well, it’s a tough call to make. Sure, RCEP has some big economic perks, but it also comes with its share of risks.

And joining the pact would mean opening our doors to China, a major player with an unpredictable impact. For Indian MSMEs, this could mean more risks than rewards.

It’s a question that deserves some serious thought, especially now more than ever.

Until then…

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